European Commission’s Green Paper Seeks to Shed Light on Shadow Banking

Globally the shadow banking industry amounts to nearly £40 trillion. These are not banks but they sometimes act like banks. They could also create the same risks as banks without necessarily being fully covered by the same regulation as banks. So the G20 and the EU want to make sure all businesses in the shadow banking sector are properly supervised and regulated, to address the risks of their causing or contributing to a financial crisis.

The European Commission (EC) has launched a Green Paper setting out what EU law does already to tackle these risks and seeking views on what more needs to be done. This is linked to a global process being overseen by the international Financial Stability Board (FSB) under G20 auspices.

Examples of shadow banking entities include among others money market funds (MMFs) and some other types of investment funds, hedge funds, finance companies providing credit or credit guarantees and insurance companies that issue or guarantee loans.

Like banks, they offer credit and/or take in deposits from investors. These are useful functions but can lead to the build-up of risk – for example through high and hidden levels of leverage or through ‘runs’ on deposits – and to spill over effects into the mainstream banking sector.

The FSB has highlighted that current reinforcements to banking regulation could drive some activity out of the traditional banking sector and towards shadow banking. Therefore, the EC believes it is urgent to look in detail at shadow banking and at whether it is necessary to extend existing financial regulation to cover it – where it does not already – and/or at whether new regulation is required.

EU internal market and services commissioner Michel Barnier said: “The EU has shown global leadership in implementing ambitious reforms in the area of financial regulation, in particular for banks. What we do not want is for financial activities and entities to circumvent existing and foreseen rules, allowing new sources of risk to accumulate in the financial sector. That is why we need to better understand what shadow banking actually is and does, and what regulation and supervision may be appropriate, and at what level. We must shed light on all parts of the financial sector.”

Next Steps

There will be a major conference on shadow banking in Brussels on 27 April 2012. The consultation will close on 1 June and the EC will publish a summary of the results. Any proposed changes to regulation will be accompanied by detailed impact assessments and take full account not only of the results of the Green Paper consultation but also of the results of the expert group on structural banking reforms recently appointed by the EC.

The EC will also continue to play a full part in international work (see Section 2 of the Green Paper) including working to ensure that there is a level playing field internationally for EU businesses.


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